Top Tabs

Wednesday, August 17, 2011

Vicon's Value Destruction

Usually, a company's stock price changes by more than its business value. This is evident by the price volatility that allows value investors like Warren Buffett to buy low and sell high (or in his case, hold forever). But occasionally, a company's intrinsic value does change drastically over a relatively short period. Vicon provides such an example.

Vicon was first brought up on this site about 5 quarters ago, as a company that traded at a discount to its net current assets. At the time, it was breaking even, and had current assets of $36 million along with land and buildings booked at another $6 million, against liabilities of $9 million. It traded for just $23 million.

Unfortunately, over the course of just over a year, this seeming margin of safety was completely erased. The company's book value has fallen from $33 million to just $23 million over a relatively short period (for value investors, that is...For traders this represents an eternity).

A number of things went wrong, a great deal of which can likely be blamed on poor decisions by the company's managers. First, while industry conditions were weak (orders have fallen off considerably since the recession),the company has made little effort to curtail costs. R&D and SG&A spend have either trended up or remained flat despite depressed revenue levels. As a result, Vicon has lost an average of more than a million dollars for each of the last three quarters. For a large company, this is a drop in the bucket; for Vicon's current market cap, however, $1 million represents 7% of book value!

Vicon also paid $5 million last quarter to settle a long-running lawsuit. At the time Vicon was originally brought up, the latest decision by the US Patent Office had been to issue a "Final Rejection" of the claims brought against Vicon. A few months later, however, the plaintiffs won an appeal and the case was reopened. This settlement represents 25% of the company's book value!

Accordingly, Vicon becomes the newest member of this site's ******************Value Fail page, where it is hoped investors (including myself) can learn from past mistakes, with these caveats in mind.

But despite the value destruction this company underwent, value investors did not get burned badly. All that was eroded here was the margin of safety. As such, investors were able to exit this investment with minimal losses even after the company announced that it had agreed to pay out the $5 million settlement. The margin of safety saves the day yet again.